Mortgage Rate Predictions: Will Another Fed Rate Cut Make a Difference?

6 days ago 3

Mortgage rates hit their lowest level since late October last week, ahead of what could be the Federal Reserve's swan song for interest rate cuts.

At its final policy meeting of the year on Dec. 17-18, the Fed is expected to cut its benchmark interest rate by 0.25%, its third reduction in 2024. However, prospective homebuyers shouldn't expect mortgage rates to drop suddenly by the same amount. Though mortgage rates are influenced by the Fed's actions, they more closely follow movement in the bond market.

"Mortgage rates are often volatile," said Jacob Channel, senior economist at LendingTree. "We'll need more time before we can determine whether or not recent declines in mortgage rates are indicative of a longer-term trend or if they're a flash in the pan," Channel said.

Lately, expectations have dimmed for aggressive rate reductions next year given uncertainty over whether President-elect Donald Trump's tax and tariff proposals will reignite inflation or throw the economy off balance. Depending on how the economy fares in the early days of the new administration, the Fed could hold off on additional cuts until March or later, Channel told CNET.

While nothing is set in stone, experts say Wednesday's cut could be the last one for a while. Mortgage rates could still fall in 2025 if economic data weakens and the Fed continues cutting interest rates. But from where things stand now, that's a pretty big "if."

The Fed, inflation and mortgage rates

The central bank has two main objectives: maintain maximum employment and contain inflation. It relies on inflation and labor data, which act as a barometer for the health of the economy, when deciding whether to adjust its benchmark short-term interest rate up or down.

When inflation was at its peak in 2022, the Fed raised interest rates to lower demand and limit price growth, and mortgage rates surged in response. The Fed pivoted to cutting interest rates earlier this fall, as data pointed to cooling inflation and a slower job market.

Recent inflation data, which show prices rising 2.7% annually in November, is not so strong as to discourage the Fed from cutting interest rates this week. But it does raise alarms that progress has stalled, if not halted altogether, on getting inflation down to the Fed's 2% annual target.

Meanwhile, the labor market isn't showing any major fault lines. While the Fed wants to avoid keeping borrowing rates too high -- which could tip the economy into a recession -- it's also wary of cutting interest rates too quickly only to see inflation reheat.

Where mortgage rates are headed in 2025

With inflation still above target and job growth strong, bond market investors now expect fewer Fed rate cuts and higher long-term interest rates, which is likely to keep upward pressure on mortgage rates.

"Mortgage rates will take direction from the bond market, which also reacts to inflation and other economic data," said Melissa Cohn, regional vice president at William Raveis Mortgage. "If the economy continues to remain on solid footing, then it is likely that we will see little downward movement in mortgage rates."

Although experts optimistically predicted rates would fall close to 6% by the end of 2024, projections have changed significantly. Fannie Mae now expects average 30-year fixed mortgage rates to hold above 6.5% until early 2025.

Experts agree that mortgage rates will only go down in 2025 if the economy weakens. That means housing affordability will stay pretty much the same in the short term.

What else is happening in the housing market?

Today's unaffordable housing market results from high mortgage rates, a long-standing housing shortage, expensive home prices and a loss of purchasing power due to inflation.

🏠 Low housing inventory: A balanced housing market typically has five to six months of supply. Most markets today average around half that amount. Although we saw a surge in new construction in 2022, according to Zillow, we still have a shortage of around 4.5 million homes.

🏠 Elevated mortgage rates: At the start of 2022, mortgage rates were near historic lows of around 3%. As inflation surged and the Fed began hiking interest rates to tame it, mortgage rates roughly doubled within a year. In 2024, mortgage rates are still high, effectively pricing millions of prospective buyers out of the housing market. That's caused home sales to slow, even during typically busy home-buying months, like the spring and early summer.

🏠 Rate-lock effect: Since the majority of homeowners are locked into mortgage rates below 6%, with some as low as 2% and 3%, they're reluctant to sell their current homes since it would mean buying a new home with a significantly higher mortgage rate. Until mortgage rates fall below 6%, homeowners have little incentive to list their homes for sale, leaving a dearth of resale inventory.

🏠 High home prices: Although home buying demand has been limited in recent years, home prices remain high because of a lack of inventory. The median US home price was $434,568 in September, up 5.1% on an annual basis, according to Redfin.

🏠 Steep inflation: Inflation increases the cost of basic goods and services, reducing our purchasing power. It also impacts mortgage rates: When inflation is high, lenders typically set interest rates on consumer loans to compensate for the loss of purchasing power and ensure a profit.

Expert advice for homebuyers

It's never a good idea to rush into buying a home without knowing what you can afford, so establish a clear homebuying budget. Here's what experts recommend before purchasing a home:

💰 Build your credit score. Your credit score is one of the main factors lenders consider when determining whether you qualify for a mortgage and at what interest rate. Working toward a credit score of 740 or higher will help you qualify for a lower rate.

💰 Save for a bigger down payment. A larger down payment will allow you to take out a smaller mortgage and get a lower interest rate from your lender. If you can afford it, making a down payment of at least 20% will also eliminate the need for private mortgage insurance.

💰 Shop around for mortgage lenders. Comparing loan offers from multiple mortgage lenders can help you negotiate a better rate. Experts recommend you get at least two to three loan estimates from different lenders before making a decision.

💰 Consider the rent vs. buy equation. Choosing to rent or buy a home isn't just comparing monthly rent to a mortgage payment. Renting offers flexibility and lower upfront costs, but buying allows you to build wealth and have more control over your housing costs. The best choice depends on your finances, lifestyle and how long you plan to stay in one place.

💰 Consider mortgage points. One way to get a lower mortgage rate is to buy it down using mortgage points. One mortgage point equals a 0.25% decrease in your mortgage rate. Generally, each point will cost 1% of the total loan amount.